FIRST QUARTER SECTOR RANKINGS PAINT NEGATIVE PICTURE -- RETAILERS LEAD MARKET LOWER -- DOW IS THREATENING ITS JANUARY LOW -- EXPECT LOWER PRICES
FIRST QUARTER RANKINGS ... The sector rankings for the first quarter of the year carry an important message. Unfortunately, it's a negative message both for the stock market and the economy. The sector bars are plotted above and below the S&P 500 which is the zero line. [The S&P lost 2.6% for the quarter]. Starting from the left, the top sectors were Energy, Utilities, Basic Materials, Consumer Staples, and Healthcare. Strength in Energy and Materials is a symptom of rising inflation. The other three leaders are defensive in nature which shows that the market has turned more risk-averse. To the far right, Technology was the weakest sector. That's a bad sign for the market. Financials and Consumer Discretionary stocks were also poor performers. That makes sense in a climate of rising energy prices and inflation. The threat of rising interest rates hurts the financials which are usually among the first groups to peak. Rising interest rates and energy prices hurts consumer spending which is reflected in falling consumer stocks. [Retailers (-7.3%) were the worst performers in the Discretionary group]. That shows that consumers are spending less which isn't good for the economy. While economists continue to debate what effect rising energy prices are having on the consumer and the economy, sector rotations paint a pretty clear picture of a stock market that's peaking -- and an economy that's slowing down.
Chart 1
RETAILERS ARE GETTING MARKED DOWN ... Retail spending makes up two-thirds of the U.S. economy. That's why it's so important and why it's tracked closely by economists. I happen to believe that the best way to see which way consumer spending is going is to look at retail stocks. And they're painting a negative picture. It was no coincidence that oil stocks were Friday's strongest group while financials and retailers were two of the day's weakest. Rising energy prices increase the odds for higher rates which hurt financials and consumers. I've also discussed how financials are usually among the first group to peak and how they've been leading the market lower. So are the retailers. Chart 2 shows the Retail Holders (RTH) falling to a five-month and trading below their 200-day average on Friday. The falling relative strength line tells an even more bearish picture. The RTH/S&P ratio line peaked in late November and has been falling since then. That's not a good sign for the retailers, the S&P 500, or the economy. It shows that rising gasoline and heating oil prices are causing consumer to buy less of everything else. A comparison of Friday's winners and losers in the Dow shows these competing trends at work.
Chart 2
DOW LAGGARDS TELL A BEARISH TALE... With oil prices jumping nearly $2.00 on Friday, Exxon Mobil was the Dow's strongest stock. Yesterday I showed the big oil stock bouncing off its 50-day moving average. Oil stocks were the only group to gain on the day. One of the Dow's worst performers was Wal-Mart. WMT (which is the biggest holding in the Retail Holders) plunged to another 52-week low. The black line is the price of Exxon Mobil. Anyone who doesn't believe that rising energy shares (and prices) have anything to do with falling retail shares should study this chart closely. It also shows why it's important to be in the right sectors of the market like energy -- and not the retailers. [Another Dow retailer -- Home Depot -- tumbled to a seven-month low].
Chart 3
$40 OIL COINCIDES WITH TOP IN JP MORGAN ... Another big Dow loser today was J.P. Morgan. The big financial stock tumbled to a new 52-week low as oil prices surged. Financial stocks are especially vulnerable to the threat of rising inflation. That's because they're rate-sensitive and higher inflation leads to higher interest rates. The bar chart of JPM in Chart 3 shows the stock peaking last spring (see arrow)and falling below last years's low. Its relative strength ratio (under the bar chart) also peaked last spring (see arrow)and hit another 52-week low today. The chart on the top is crude oil. It's meant to show that the ability of crude to exceed its all-time high at $40 last spring coincided with a peak in JPM -- both on an absolute and a relative basis. Economists haven't figured it out yet. But the charts make it very clear that rising energy prices are also having a very negative impact on financial shares.
Chart 4
THE ECONOMIC NEWS ISN'T GOOD ... It's interesting to see the media put a positive spin on recent economic reports. It was reported this week that fourth GDP growth was lower than expected while prices were higher than expected. That was described as good for the economy. Earlier this morning, the government reported that March non-farm payroll numbers were only half what was expected. That was reported as good because it lessened the chances for higher interest rates. A report of lower consumer confidence was viewed as a non-event. The ISM report showed a weakening in manufacturing activity coinciding with surging raw material prices. That apparently is why companies haven't been hiring. It was reported that although the ISM number fell to 55.2, it was still above 50 which is good. My question is how can a slowing GDP number, slowing manufacturing activity, lower consumer confidence, higher raw material prices, and fewer jobs be good for the economy. The market is telling the truer story. Sector rotations during the first quarter paint a bearish picture for the market. After suffering a bad first quarter, the market fell sharply again today and threatens to get even worse. A number of stock indexes are testing chart support at their 2005 lows. I suspect they'll be broken sooner or later. Since the market is also a leading indicator for the economy, economists might do well to pay more attention to the message the market is sending. Unfortunately, it's not an optimistic one.
Chart 5
DOW THREATENING JANUARY LOW... The daily Dow chart shows the market at a critical juncture. The Dow fell 99 points today and is threatening its January low, its 200-day moving average, and its September peak at 10390. I suspect all will be broken. There's always the possibility of an April bounce. But seasonal factors then turn negative until the autumn. My best guess at this point is that Dow is headed toward its fourth quarter low near 9700. I would continue view any short-term bounces as selling opportunities. Two of the best places to be right now are energy and cash. If you haven't already done so, take a look at some bear market mutual funds. They'll allow you to make money in a falling market.
